All the News You Can Handle this Week: Elections, QE 2.0, Jobs Report

Monday, November 01, 2010

It's November! Fall, leaves, turkey, Thanksgiving, what a great month! My posting was relatively light for the month of October as I spent much of the month in a more hands-off position with a large dollar position and a few good stocks I like. Given the 3.7% gain in the S&P 500 this positioning has not been acceptable. Coming off a great September I entered a far too cautious mode and made several mistakes with the culprit being either too much activity or a lack of patience. Yet, a new month is here and this week has about all the upside/downside catalysts you could hope for. So, enough with the past, time to think about the next few months.

Could we ask for more news flow?

Tomorrow we have the midterm elections, Wednesday the FOMC is widely expected to announce some quantity of asset purchases as QE 2.0 begins and Friday is the monthly jobs report. So, we all know the Republicans are anticipated to pick up seats, QE 2.0 is expected somewhere around $500 billion and we're looking to maintain an unemployment rate of 9.6%. At this point, I don't see much point in guessing what the numbers will be or what the reaction will be. My trades reflect the belief that QE 2.0 will be less than is priced into the markets and the dollar has bottomed for the foreseeable future.

A rundown of where we are: The S&P 500 has rallied 17.5% from the July 1st lows and sits just 2.6% off the late-April highs. The dollar index is hanging out just 1.6% off October lows. While I have been looking for a dollar rally, the price action last month has done little to convince me my idea is correct up to this point. My stops are in place near the lows. The 30-year Treasury bond is 4.5% off highs yet 14.2% off April lows.

For next few months, I see more upside

Whether or not QE 2.0 is $250 billion or $750 billion and whether or not the market drops 1% this week or advances 1% following Friday's jobs report I see the market being supported by yet another very strong earnings season. We continually see macro worries causing volatility in equity prices but, over the long-term, stock prices will appreciate in line with earnings growth. Over 70% of companies have beat analysts' EPS expectations for yet another earnings season with estimates too low.

My overall trading plan is to continue trying to buy stocks on weakness and sell them into strength. This is an obvious goal but my point is to maintain this mindset and not fall into a game of trying to pick tops and predict pull-ins. I think volatility will continue to fall over the next several months and correlation will also decline. (This may certainly not be true this week but I would see a large pull-in as a buying opportunity.) The April decline in equity markets following the European debt crisis stoked fears of a double dip recession and led to a 17.1% correction in the S&P 500 from high to low. I believe a double dip is not in the cards in the near term smartly avoided by quick, concerted actions by the ECB and continued expansionary policies from the Federal Reserve. A fast and furious rally off the September lows caught many by surprise but it has correctly forecasted the quick return to relative calm and the slow, but sure economic recovery we are experiencing.

While I am long the dollar which currently has a strongly negative correlation to equity markets, I do not think that correlation necessarily must continue and we have had plenty of times historically of concurrent rallies. It is a separate trade from the specific equities I hold and will perhaps be a hedge should the market come in and correlation remains high. We'll see how it all plays out.

Brandon R. Rowley
"Chance favors the prepared mind."

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